VA Loan Vs. Conventional Loan: A Complete Guide To Each Loan Option
If you’re serving in the military or meet other VA loan eligibility requirements, you may find that deciding between a VA loan and a conventional loan is pretty straightforward. VA loans typically require no down payment and no mortgage insurance while offering more lenient borrowing qualifications.
However, depending on your financial situation and real estate goals, conventional loans – which aren’t backed by a government agency – may offer numerous advantages. This is likely to be especially true if you’ve saved for a down payment or you’re a homeowner looking to buy a second home or investment property.
Let’s explore these two mortgages in more detail to help you decide which one better fits your needs as a borrower.
Conventional Loans Vs. VA Loans: An Overview
VA loans and conventional loans are just two options that qualifying borrowers can use to finance a home purchase. Before unpacking the differences between these types of home loans, let’s first get a little more acquainted with their basics.
Conventional loans are one of the most common financing options for potential home buyers and real estate investors. Unlike government-backed loans, most conventional loans are conforming loans because they meet the guidelines for purchase by Fannie Mae and Freddie Mac. Private mortgage lenders – such as banks and credit unions – originate these mortgage loans.
With a conventional loan, unlike with a VA loan, you won’t need to meet any special eligibility requirements in terms of borrower status.
VA home loans are government-backed mortgages insured by the U.S. Department of Veterans Affairs (VA), meaning the VA assumes some of the risk in the event a borrower defaults on their loan. Like other government-backed mortgages, VA loans are non-conforming and can’t be purchased by Fannie Mae or Freddie Mac.
To finance with a VA loan, you must qualify for your Certificate of Eligibility (COE) as either a veteran, active-duty military service member or surviving spouse. Civilians can’t qualify for these loans, which are intended only for current and former military members along with surviving spouses who meet certain eligibility requirements.
What Are The Differences Between VA And Conventional Loans?
Conventional loans generally have stricter lending requirements than VA loans and other government-backed loans (FHA loans and USDA loans) because lenders assume most of the risk with conventional loans.
Let’s take a deep dive into the different requirements for VA and conventional loans so you can decide which mortgage product is more suitable for your home buying needs and goals.
VA Loan Vs. Conventional Loan: Property Type
One of the biggest differences between VA and conventional mortgages is the type of property you can finance with each type of home loan.
- VA loans: According to VA loan occupancy requirements, if you’re financing with a VA loan, the home or property must serve as your primary residence. While you can’t use a VA loan to directly purchase a second home, investment property or vacation home, you can purchase a multifamily property of up to four units to rent out – as long as you occupy one of the units as your primary residence.
- Conventional loans: Conventional loans don’t require you to occupy the home you’re purchasing as your primary residence. This means you can use a conventional mortgage loan to purchase a second home, vacation home, rental home or other investment property with no strings attached, as long as your lender approves it.
VA Loan Vs. Conventional Loan: Credit Score
Because your credit score represents how well you’ve managed debt, mortgage lenders rely on this three-digit number to assess your risk as a borrower.
And while the VA doesn’t set a minimum credit score requirement, you’ll still need to meet your lender’s minimum credit score requirement, regardless of which loan product you’re applying for.
Here are the credit score requirements for conventional and VA loans:
- Conventional loans: The minimum credit score benchmark will vary by lender, but in general, you’ll need a score of at least 620 to qualify for a conventional loan.
- VA loans: Because the government insures VA loans, lenders can offer more relaxed credit score requirements than conventional loans. Some lenders may still require a 620 credit score, but a 580 score can qualify you for a VA loan with Rocket Mortgage®.
VA Loan Vs. Conventional Loan: Down Payment
One of the most attractive features of VA loans is that they generally don’t require a down payment – although some lenders might require a small down payment if your credit score is low.
For conventional loans, lenders will require you to put at least 3% of the purchase price down. However, if you make a down payment of at least 20%, you can forgo paying private mortgage insurance (PMI) from the beginning of your loan term.
VA Loan Vs. Conventional Loan: Mortgage Insurance
Depending on your loan type, down payment amount and other factors, lenders may charge you mortgage insurance to offset the risk of a loan default. Mortgage insurance can be a one-time cost you pay at closing, a regular fee rolled into your monthly mortgage payment, or both.
Let’s look at the mortgage insurance requirements for conventional loans versus VA loans:
- Conventional loans: Lenders will require you to pay private mortgage insurance (PMI) on a conventional loan until you reach 20% equity in your home. While the exact amount varies from lender to lender, PMI is usually 0.1% – 2% of your loan amount per year. Once you reach 22% home equity, your lender should automatically remove PMI from your monthly payments, but you can request they do so once your home equity reaches 20%.
- VA loans: While VA loans don’t require mortgage insurance, they do require you to pay a VA funding fee, which is an upfront cost of 1.25% – 3.3% of the loan amount. Similar to mortgage insurance, the funding fee offsets the potential risk of a loan default and can be built into the total loan amount. Some veterans may be exempt from the funding fee. For details, you should contact your lender.
VA Loan Vs. Conventional Loan: Debt-To-Income Ratio (DTI)
Your debt-to-income ratio (DTI) is a percentage representing how much of your monthly gross income goes toward recurring monthly debts like rent, student loans, auto loans and credit card payments.
Your lender looks at your DTI to determine how likely you are to make your mortgage payments on time each month. The lower your DTI, the less risk you pose to your lender.
- VA loans: While VA loans don’t have specific requirements for DTI, most lenders set their own requirements. Lenders are also required to look at compensating factors – such as your credit score, liquid assets or military benefits.
- Conventional loans: You might be able to qualify for a conventional loan with a DTI as high as 50%. If your loan amount is higher than 80% of the value of your home, this may increase your mortgage insurance premium.
VA Loan Vs. Conventional Loan: Mortgage Rates
Housing market conditions, inflation and even the Federal Reserve all factor into current mortgage rates. Your personal mortgage interest rate will also be influenced by your loan amount, down payment and credit score, as well as whether you’re applying for an adjustable-rate mortgage (ARM) or fixed-rate mortgage.
VA mortgages generally offer lower interest rates than conventional loans at a percentage difference of 0.25% – 0.42%. For example, for a 30-year fixed-rate loan closing at the end of May 2023, the average mortgage rate for a VA loan was 5.375% versus 6.375% for a conventional loan with the same term, which is a whole point difference.
However, if you were closing on a 15-year fixed-rate conforming loan at the end of May 2023, you might’ve locked in an interest rate as low as 5.250% in exchange for a higher monthly payment.
VA Loan Vs. Conventional Loan: Loan Limits
For a single-family home in most U.S. counties in 2023, you can use a conventional loan to finance a home of up to $726,200. The conforming loan limit increases to $1,089,300 for Alaska, Hawaii and high-cost areas in other states. If your property exceeds the conforming loan limits of your area, you’ll need to use a jumbo loan – a type of non-conforming conventional loan.
VA loans don’t technically have loan limits. Instead, they have VA loan entitlements. If you’ve never used your VA loan benefit – or you’ve fully repaid a VA loan – you have full entitlement, which means the VA will repay up to 25% of any loan amount you’re approved for.
However, if you’re making payments on a VA loan or you’ve defaulted on a VA loan, you have partial entitlement. You can still purchase a home with a VA loan using partial entitlement. The VA, however, will only guarantee your loan up to the conforming loan limit minus the entitlement you’re using.
VA Loan Vs. Conventional Loan: Closing Costs
Closing costs are various fees you pay your lender to process your loan. Included in these costs are origination fees, home appraisal fees, title search fees and more.
While VA loans cap their origination fees at 1% of the total loan amount, these fees similarly tend to only range from 0.5% – 1% for conventional loans. Appraisal fees for conventional loans are usually lower, typically ranging from $300 – $400 for a single-family home versus $425 – $875 for a VA appraisal. It’s important to note that appraisal fees for a home being financed with any loan can cost north of $600 or even $2,000 depending on where you live or the size of your house.
Overall, you’ll generally pay 3% – 5% of your loan amount to close on your VA loan, and you’ll likely pay 2% – 6% to close on your conventional loan.
Benefits Of A VA Loan Vs. A Conventional Loan
Let’s recap the advantages of VA loans and conventional loans, respectively.
Pros Of VA Loans
- No or minimal down payment required
- No mortgage insurance required
- No cap on loan amount for full entitlement borrowers
- More lenient underwriting requirements
Pros Of Conventional Loans
- No funding fees
- No restrictions on property type
- No VA home guidelines to meet
- Available to non-civilians and civilians alike
It’s important to note here that, given the choice to use a VA loan or conventional loan to finance the same home, you could potentially end up paying less in the long run with a conventional loan if you can make a down payment of 20% or higher.
Regardless of your down payment on the VA loan, you’d still end up paying the VA funding fee, whereas you’d be able to avoid paying PMI with a down payment of at least 20% on a conventional loan. The lack of PMI could result in a lower monthly payment on a conventional loan than you’d have with a VA loan.
Furthermore, you’ll have to borrow less money with a higher down payment, meaning you’ll ultimately pay less in interest.
Conventional Vs. VA Loan: Which Is The Better Option?
Neither a VA loan nor a conventional loan is always better than the other. It depends on which loan type better fits your needs when buying a home.
When Does A VA Loan Make More Sense For You?
A VA loan may be a better option when:
- You qualify for your Certificate of Eligibility (COE)
- You’d prefer making no down payment
- You need to build up your emergency fund or other savings
- You want to avoid paying PMI
- You’re purchasing a primary residence
- You don’t have perfect credit
When Does A Conventional Loan Make More Sense For You?
You may prefer to finance with a conventional loan if:
- You can afford a down payment of 20% to avoid PMI
- Your credit score is 620 or higher
- You want lower monthly mortgage payments and can put more money down
- You’re looking to purchase a second home or investment property
The Bottom Line
Whether you should go with a conventional loan, VA loan or another loan type will depend on your homeownership goals, home buying needs and purchasing power as a borrower.
If you’re a first-time home buyer, the accessibility of VA loans may appeal to you. But if you want lower monthly payments, can afford a down payment of 20% or more, and are looking to buy a rental property or vacation home, a conventional loan may be the right choice.
Need more help deciding? Get started today to speak with a Home Loan Expert about whether a conventional loan, VA loan or other financing option best fits your needs.